Regulatory Capital Arbitrage and the Potential Competitive Impact of Basel II in the Market for Residential Mortgages |
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Authors: | Paul S Calem James R Follain |
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Institution: | (1) Freddie Mac, Housing Analysis and Research, 8250 Jones Branch Drive, McLean, VA 22101, USA;(2) 1810 Union St., Niskayuna, NY 12309, USA |
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Abstract: | U.S. banking regulators have proposed a bifurcated system of capital regulation where the largest, internationally active
banking organizations would be subject to significantly more risk sensitive regulatory capital requirements than are currently
in place, while most others would remain subject to the current rules. The proposed new capital regime has the potential to
affect the competitive landscape among banking institutions, particularly in the area of residential mortgage lending. We
analyze the potential competitive effects of the proposed, bifurcated regulatory capital system on competition in the residential
mortgage market from the perspective of the theory of regulatory capital arbitrage. We then apply the theory and available
evidence to perform some benchmark calculations that suggest a significant, potential shift of market share and income to
the largest banking institutions in the mortgage market.
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Keywords: | Mortgage credit risk Bank capital regulation Mortgage market structure |
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